HA Sustainable Infrastructure Capital, Inc. (HASI) Earnings Call Transcript & Summary

Sure. So [Audio Gap] political in there for a second. And one thing we've gotten -- we've become fond of saying over the past several months is 3 or 4 years ago, if one said we're going to have a presidential administration that's completely averse to climate change, your business will probably suffer. And if we have an interest rate environment that's very flat with very low rates for a very sustained period, your business will probably suffer. And we've had both those things for the past 3-plus years, and Hannon Armstrong's business has prospered quite well. So we almost want to take that question almost off the table, that in any political environment, in any interest rate environment, we think we've built a business that really works. And as it relates specifically to [Audio Gap], we're much more credit spread-driven. So just use the illustrative example of if we're investing at T plus 600 and we're funding ourselves at, call it, T plus 250, it doesn't matter what T is, right? If we're always doing that through cycles and maintaining an adequate spread there, the absolute level of interest rates is not particularly impactful.

Well said. And you've proven that ability to do well in a variety of business cycles, administrations, et cetera, so I think the proof is there. I've got one more before I turn it over to Mark. I hear we have an election this year, and so we're getting a lot more investor questions just about impacts. I think people understand the status quo. And both Jeffs, you described well how you've done well in the current administration. In the scenario in which we did see a blue sweep, where the Senate turns Democrat, Vice President Biden becomes President, how do you think about the sort of range of policy outcomes, how your business would do, sort of what you think makes sense from an environmental policy point of view? Anything else you want to touch on in regard to the election would be great.

Sure. Well, as you said, we've worked very hard over 4 decades to try not to be dependent on what happens in Washington. That said, having a tailwind, that would be lovely, a little bit like the Paris Climate Accord. We would be quite in favor of it. Where -- if it goes Democrat, where there's upside is if there's a price on carbon, which I'm starting to hear. Well, Biden won't talk about it during the election. There is good bilateral support for a carbon tax and dividend as a market-based solution and, frankly, an alternative to a heavily subsidized green deal-type thing. The downside scenario for us is when there's some kind of a Green New Deal stimulus where the government gives money away, much like with the Recovery Act in 2010. It's very hard to compete with free money. I just saw that our monthly national budget deficit was $850 million in May -- excuse me, $850 billion. I mean that was a year, and a bad year. So I don't really see that we have an infinite capacity to subsidize. And frankly, I think industry has shown, they don't need the subsidy. Some of the Democratic policymakers are a little bit behind saying it's a capital problem. It's not. There is a ton of capital looking to get invested in this area. So I'm cautiously optimistic that a price on carbon will do what -- more efficiently what tax credits were designed to overcome, is the long-standing subsidy of fossil fuels.

That's a great overview. Well, with that, I'm going to turn it over to Mark Savino to cover a number of ESG topics. And then we'll go back to some investor questions we've received.

Great. Thanks very much, Stephen. And thanks to Jeff and Jeff, both, for doing this today. So a couple of questions, just kind of honing in on some of the areas that our ESG-focused clients are really kind of digging into. First, just I want to -- Jeff, you mentioned it earlier, but I want to just ask from a reporting perspective on the CarbonCount metric that you disclosed, because it is quite unique. And I'd wonder if you could just comment in a little more detail in terms of how that guides your strategy. How important is it? Do you have sort of internal targets of where you want that metric to get to? Because I think it is, again, quite a unique sort of disclosure mechanism.

So we don't have targets. The -- it's really tracking carbon. It is a very complex concept, and people can get really confused. And they talk about green, and it's qualitative. We want it quantitative. In my annual report letter, I said we're going to lose to climate change unless the big financial institutions, including Morgan Stanley, do 3 things. One, before they make an investment, they ask themselves a fundamental question: is this helping or hurting climate change? Just a simple question. A lot of businesses that the 6 big banks are in are not helping climate change. Second, that they report all of their investments, not just the ones they want to talk about. And then third, and this is where CarbonCount is, again, if capital is scarce in CarbonCounts, we ought to be making as a society the most impactful investments. And what CarbonCount gives that is the efficiency with which Apple is being used to reduce climate change. And I think until we do those 3 things, we're on a trajectory for a much warmer planet than anybody could want.

Yes. No, I think those are all great points and certainly all worth considering and thinking about, for sure. One of the other areas that I wanted to kind of dive into is on the energy efficiency side because it is, definitely, from our perspective and from the inbounds we're getting from investors, a growing area of interest, particularly around sort of the real estate and building sector where you've now seen even in the U.S., several U.S. cities that have put into place very strict emission standards that are going to be coming into place over the next couple of years. So just curious, within your behind-the-meter segment, can you talk about the opportunity to invest in energy efficiency solutions in a little bit more detail? I'm curious to hear a little bit about the types of investments that you're considering in that area specifically.

So 2 of our clients, Trane Technologies and Carrier, well-known names in heating and cooling, they would just love to get rid of natural gas being burned in a building to create 72-degree temperatures. It's a nonsensical way to heat a building. So the electrification of building, heating and cooling and evaporative chillers and all that is an enormous opportunity for those clients of ours. Now when they go in, they just -- they're not going to do that, adjust that. There's so many other technologies that can be combined to make a really smart building, lighting controls, just to name a few. And it becomes just a much smarter, much less carbon-intensive building. So if we took all the natural gas that was combusted to generate 72-degree heat and then instead either left it in the ground or used it to generate power, that would be a very good thing.

Yes. I think -- and we've spent some time with Trane and Carrier as well, and I think there's obviously a lot of opportunity for those types of companies. And obviously, that creates opportunities for you as well. So I think it is definitely an area that's going to continue to get focus, particularly as the regulatory side is supporting some of those efficiency efforts. Another area that I wanted to kind of touch on, and I think Stephen would agree, we're getting a lot more questions these days on storage and on hydrogen as sort of very critical solutions to decarbonization long term. So curious to understand how you're thinking about those segments, specifically what the opportunity set is there. I think that would be a helpful overview.

Well, in general, if we're actually serious about decarbonization, the amount of capital that's required is in the trillions. We are not short of investing opportunities. The real key for us is that our clients are commercializing those technologies. ENGIE was in the press talking about hydrogen in -- industry in Provence this week. It's not quite economic yet, but look at storage and wind and solar 5, 10 years ago, it wasn't economic. I think the trend is absolutely inevitable. Costs are coming down. And as our large clients figure out how to commercialize this, one thing we know for sure is it all needs capital, and we want to be there as a capital provider. So storage to me is a complete game changer for the utility business, both on the utility rate base, I mean I think that's a tremendous asset for utilities to invest in, but also on the distributed side.

Yes. I think we would absolutely agree with that comment in terms of the amount of capital needed. Shameless plug for the blue paper that we did last year, where we came to a sort of nice round estimate of about $50 trillion of capital that we think is needed across all of the kind of major decarbonization technology, so certainly ripe for opportunity. Shifting back to -- we talked about the election a couple of minutes ago, tax credits, pricing on carbon. Curious, are there other policy outcomes, other regulatory outcomes that we should be thinking about that could impact your opportunities in either positively or negatively? What are the other kind of areas that you're particularly focused on?

Well, I think we've had a science lab of policies that could have hurt us over the last 3.5 years, not what else the Trump administration could throw at our industry. So I'm sure the fossil fuel industry will continue to try to come up with ways to slow the demise of their business, but I don't think that's going to work very well. In terms of positive policy, I'm a bit of a broken record on pricing carbon. I think we have a pretty good sight line of how we're going to decarbonize the electric power sector. At least the solutions are there. What we don't have any sight line on is industrial applications that need fossil fuel now like cement, ag and transport. And I think a carbon tax will unlock a lot of innovation in all of those areas that I'm not sure you need a policy beyond markets. When -- markets are really powerful when they're unleased and they're priced correctly. If we've internalized the externality of climate change, then I get really optimistic.

Yes. I think that's -- it's absolutely a fair point. And we think about kind of the industrial applications is certainly where the challenges lie. And you can think about technologies like carbon capture, we talked about storage and hydrogen, and they all have a role to play. But to your point, it's certainly that, that market mechanism is a very powerful way to really drive effective change. I would certainly agree with that. One other question for me, and then I will kick it back to Stephen. This is -- as we've seen how the world has been changing and evolving over the last couple of months, the social sort of pillar of ESG has been getting a lot more focus from investors. And we're getting questions on human capital management and diversity and equality and inclusion and -- things that were always important, but quite frankly, were sort of overshadowed by climate and have now really come to light. So I'm curious if you could talk a little bit about how you think about some of the social elements within your business, codes of conduct, human rights, diversity, how you think about these issues, how you implement them within your business and also with the partners that you choose.

Great question, Mark. And if you hadn't asked that, I was going to raise it. I have always put the E in ESG in like 44 font because I'm such a climate change student. The last 2 months, particularly since George Floyd's murder, the past has profoundly affected me and I think profoundly affected our Board and our staff. We've had more interesting, honest, painful discussions as a company about, okay, we're not racist, but we're not antiracist, to use the metaphor. Are we actually proactively investing in the S? That has changed in the last 2 months, and our investors should expect much more leadership from our Board, from me and the company on the S. We have a lot of interesting things going on. I've -- I can always figure out the impact of climate change on rice farmers in Bangladesh. That's [indiscernible] to me. I haven't been able to quite connect those dots in the U.S. of where power plants are sited, where flood impacts people. These are social issues that are related to climate change. So I'm committed to having the capacity as an individual but also as a company to do more than just the E. We're going to make the S a much more prominent aspect of our business. And we have a really high-octane, high-intellect group. You mentioned all of the checklists. I think there's 1 million checklists that we check off. We [ green bid ], we're signed up in everything. None of those mean a darn thing unless what we're actually doing is credible to our smart people. We have [ a lot of hope here ], but we have people who are able to judge if they're being patronized. And I think people, they want to see real action. And I'm hopeful that our company will emerge as a leader.

Yes. I think it's certainly, obviously, very important issues to think about. And you raised an interesting point. We hear more and more about the issue of sort of climate justice, as it's often referred to, where if you do look at the physical effects of climate change, there is a much more pronounced adverse impact on lower demographic populations, for example. So it is -- as we think about the issue of inclusion and equality, there is a very real tie-in with climate change that has to be -- ultimately has to be solved. So I definitely appreciate your thoughts on that. I think with that, let me kick it back to Stephen and see if there's any questions from the audience or any other questions you may have.

Great. Thanks, Mark. And Jeff, I have to say, I'm excited to see how you all kind of approach the S in ESG, and the concept of climate justice is one that we're hearing more and more about from the investment community. So we'd welcome your leadership and your thoughts on that. That sounds exciting to me. I do have 3 questions I've received. But before I do it, I wanted to highlight something that really struck me. And for investors, I really recommend taking a look at the annual report from Hannon Armstrong. There's a statement in there I just thought I'd read. I thought it was profound and just useful really to think about. And I'm just quoting from the report, and I promise it will be very short, but I just -- it really kind of blew me away. Very simple but profound: Our climate-positive investment thesis is based on the following theories: One, more efficient technologies are more productive, and thus should lead to higher economic returns; two, lower portfolio of risk is inherent in a portfolio of smaller investments, generated by trends of increasing decentralization and digitalization of energy assets compared to larger, centralized utility-scale investments; three, investing in assets aligned with scientific consensus and society's general beliefs will reduce potential regulatory and social costs through better internalization of externalities, which Jeff had mentioned earlier; and then, four, assets that reduce carbon emissions represent an embedded option that may increase in value if carbon regulation were to set a price in carbon emissions. So I find that just profound. So I just thought I'd read that out for investors. The annual report is full of, I think, some interesting observations. So with that, we just received a number of questions from investors. The first is on the ENGIE transaction, [indiscernible] question again. So the question is, does the ENGIE joint investment represent a new market growth opportunity for Hannon Armstrong in the blended finance category? If so, what is the potential size of that market?

It's not really a new investment category. We've got wind in the portfolio, albeit generally -- well, we've got some preferred wind investments. So this is just a lot more of them. And then the solar assets, we've not had the common equity in solar like we do now because we haven't liked the returns and said that the land -- I think we own 25,000 acres of land underneath these same kind of solar projects. So it's different places in the capital stack of the exact same assets. In terms of the potential, clearly, wind and solar have enormous runways here. And to us, it's a question of pricing and risk. If we can get the best -- the risk-adjusted return that we like, we're all in. If we can't, glad we have other places to invest.

Understood. Another question we received is just in terms of competitive dynamics across your different markets. Are you seeing any changes, either positive or negative, in terms of new entrants? Or just what you're seeing day-to-day in terms of competition to serve your customers?

Well, I think the world is clearly awash in capital. But over Hannon's 40-year history, we have always done better in more volatile markets. And this is certainly a volatile market. And one of the reasons is, given our programmatic relationship with our clients, marginal competitors tend to go away in volatile markets. And clients tend to respect capital providers out a lot but a little bit more on the margin. So while there is, I think, an increasing kind of capital coming this way, the ability of us to -- we've got clients. We're going to service them and do well. I like our position relative to new entrants into the business.

It's a good overview. So the next question, there are a couple of elements to it. So let me just read it out to Jeff and Jeff here and see how you want to respond to it. I think they're really good questions here. The first part is what time line does Hannon Armstrong place on the demise of fossil fuels? That's the first part. And how much reach does Hannon Armstrong have in a carbon-free future? How do you think about your business opportunity? And then lastly, we can touch on carbon capture. But maybe why don't we touch on these sort of fundamental points about the time line over which you see fossil fuels, if -- presuming you do see those having an end date.

I have to say, I believe in climate change, but I also believe in diminishing margin of returns and investing in certain assets. I am not a fossil fuel-free believer. There are places where fossil fuels have just a profound role. It shouldn't be to heat buildings or boil your water or drive an internal combustion engine or drive an automobile. Those, to me, are lazy technology solutions. So I think you'll get to using fossil fuels in the right way, which is in a substantially decarbonized environment. So no time frame. The world is a very hungry place for energy, and it's an enormous challenge we have to keep the China and India and the rest of the developing world at some level of energy supply that is -- allows them to have the quality of life that they aspire to. It is a tough problem in the U.S. It's tougher in the developing world.

Very fair, very fair points. Maybe I can touch on just this last question. Does Hannon Armstrong have any plans for a way to make carbon capture a financially profitable goal? How do you think about carbon capture?

I think the classic carbon capture that Southern Company has tried, that's not our kind of deal. We get much more interested in regenerative agriculture, where you're reducing the use of fossil fuels by lowering the amount of fertilizer, and then you have healthier soils that capture carbon. There is some really interesting work going on in that. Is it investable now? Not -- we haven't found a way. But from a -- you think of Hannon Armstrong in the future, yes, that could be more interesting. We do own a lot of land.

That's interesting. I mean the topic of regenerative agriculture, it's something I'm personally fascinated by and makes sense. So we'll stay tuned to see how that develops. I love that you all are very innovative, thinking about new ways to apply your expertise, your financing capabilities in ways that will help the planet. So those are all the questions we've had. I think we're just almost at the top of the hour. So I want to thank the management team of Hannon Armstrong, Jeff and Jeff and Chad as well from Investor Relations. Thank you so much. Thanks to our clients for being part of this, and feel free to contact us with any follow-up.

Thank you all, and stay well.

Thank you.

Thanks, Jeff. Thank you. Have a great day.